New U.S. Reporting Requirements for those with Foreign Financial Accounts in Excess of $50,000

The Hiring Incentives to Restore Employment Act, enacted back in early 2010, included a number of information reporting requirements intended to increase worldwide compliance with U.S. tax laws. One of those provisions is Section 6038D, which requires that a new Form 8938 be filed by every specified person who owns specified foreign financial assets (SFFA) with an aggregate value in excess of the applicable threshold amount. These additional reporting requirements are in addition to, and not in place of, filing a Foreign Bank Account Report (FBAR) on Form TD F 90-22.1. Unlike FBAR, these reporting requirements apply to foreign private equity funds, foreign hedge funds, foreign partnerships, corporations and trust funds.

Applicable Reporting Period

The first year for reporting for this new form has been required for personal US income tax returns filed for the calendar year 2011.

Specified Person

The following individuals are specified individuals that are required to file this form:
1) U.S. citizens and permanent residents (green card holders)
2) Individuals satisfying the “substantial presence” test
3) A nonresident alien who is a bona fide resident of a U.S. possession
4) A nonresident alien making an election to file a joint income tax return with a U.S. spouse

Even if a permanent resident or substantially present resident elects to be treated as a foreign resident under an income tax treaty, that person continues to be a specified individual and must file Form 8938.

SFFA

“Specified foreign financial assets” are:
1) depository or custodial accounts at foreign financial institutions
2) to the extent not held in an account at a financial institution
a) stocks or securities issued by foreign persons
b) any other financial instrument or contract held for investment that is issued by or has a counterparty that is not a U.S. person
c) any interest in a foreign entity

SFFAs include financial accounts maintained by a foreign financial institution such as savings, deposit, checking, and brokerage accounts held with a bank or broker-dealer. Such an account must be reported even if its contents include investment assets issued by a U.S. person such as U.S. stocks or securities.
Taxpayers are required to report on Form 8938 but not the FBAR:
• foreign stock or securities held in a foreign financial account at a foreign financial institution
• foreign mutual funds as well as foreign hedge funds and foreign private equity funds
• foreign stock or securities not held in a financial account

Asset also include stock or securities issued by someone a non-U.S. person, any other interest in a foreign entity, and any financial instrument or contract held for investment with a non-U.S. issuer or counterparty if held for investment even if not in a financial account. Examples include:
• stock or securities issued by a foreign corporation
• a note, bond, or debenture issued by a foreign person
• an interest rate swap, currency swap, basis swap, interest rate cap, interest rate floor, commodity swap, equity swap, equity index swap, credit default swap with a foreign counterparty
• a partnership interest in a foreign partnership

Assets also include interests in foreign pensions or deferred compensation plans valued on the last day of the year. If the taxpayer does not know or does not have reason to know the value on the last day of the year based on readily accessible information the end-of-year fair market value, the maximum value is the value of the cash and/or other property distributed to him during the year.
Assets that do not have to be reported on Form 8938 include foreign real estate such as personal residence or rental property, but if such property is held through a foreign entity such as a partnership or estate, the interest in the entity is a specified foreign financial asset reported on Form 8938.
Other assets that do not have to be reported on Form 8938 include directly held shares of a U.S. mutual fund that owns foreign stocks and securities as well as financial accounts maintained by a U.S. financial institution holding foreign stocks and securities. Examples of financial accounts maintained by U.S. financial institutions include U.S. Mutual fund accounts IRAs, 401(k) plans, qualified U.S. retirement plans, and brokerage accounts maintained by U.S. financial institutions.
In addition, a financial account maintained by a U.S. branch or U.S. affiliate of a foreign financial institution as well as a financial account including depository, custodial or retirement accounts held through a foreign branch or affiliate of a U.S.-based financial institution do not have to be reported.
Payments or the rights to receive the foreign equivalent of social security or social insurance benefits of a foreign government do not have to be reported. Directly held tangible assets such as art, antiques, jewelry, cars and other collectibles do not have to be reported.

Applicable Threshold Amount

Unmarried taxpayers and married taxpayers filing separately who live in the United States exceed the applicable threshold if the value of all SFFAs exceeds $50,000 at the end of the year or $75,000 at any time during the year. For married taxpayers who file jointly and live in the United States, those thresholds are $100,000 and $150,000. The thresholds are most generous for taxpayers living abroad: $200,000 at the end of the year or $300,000 at any time for persons who don’t file joint returns; $400,000 and $600,000 for joint filers. Below is a summary of these filing thresholds:

Filing Status

Living In

Value on Last Day of Year

Value on Any Day of Year

Unmarried or Married Filing Separately

U.S.

$50,000

$75,000

Married Filing Jointly

U.S.

$100,000

$150,000

Unmarried or Married Filing Separately

Foreign Country

$200,000

$300,000

Married Filing Jointly

Foreign Country

$400,000

$600,000

The instructions contain fairly detailed guidance on how to value an SFFA. An asset can’t be assigned a negative value. All assets must be valued in dollars and there are specific rules on currency conversion. For financial assets, periodic statements can generally be relied upon. For other assets, the last day of the year is the date for valuation. When determining if the value of all SFFAs exceeds the threshold amount, jointly owned property is reported based on the value of the whole asset, except for married persons filing separately who will each include only one-half the value of the jointly owned SFFA. If Form 8938 is required, you must report the full value of jointly owned assets in all instances.
Estates, pension plans and deferred compensation plans are also valued at the end of the tax year. Such assets are often difficult to value and the instructions generally provide that if you don’t know the fair market value of your interest, you can report any cash and other property distributed to you during the tax year as the value. Similarly, non-grantor discretionary trusts are valued based on the value “of all of the cash or other property distributed during the tax year from the trust to you . . .” Mandatory trust distributions are valued using the Section 7520 tables.

Entity Versus Aggregate

If the value of SFFAs exceeds the applicable threshold amount, you must disclose all SFFAs, regardless of value. Only entity level reporting is required for financial accounts, partnerships, corporations, non-grantor trusts and estates. You must disclose underlying investments if you have an interest in a disregarded entity or are the grantor of a grantor trust. The instructions further state “an interest in a foreign trust or foreign estate is not a SFFA unless you know or should have known of the interest.”

Avoiding Duplicative Reporting

You don’t need to report an SFFA on Form 8938 if you’ve reported it on Form 3520, 5471, 8621, 8865 or 8891. You must, however, identify on Form 8938 which of those forms were filed that reported what would otherwise be a reportable SFFA.

Penalties

The civil penalties for failing to file Form 8938 aren’t nearly as extreme as for failing to file a Report of Foreign Bank and Financial Account. A specified person who fails to provide required information for any tax year is subject to a $10,000 penalty. A failure continuing for more than 90 days after the day on which IRS mails a notice of the failure to the specified person subjects the specified person to an additional penalty of $10,000 for each 30-day period (or fraction thereof) during which the failure continues after the 90-day period has expired, up to a maximum penalty of $50,000 for each such failure. A 40 percent accuracy-related penalty and a 75 percent fraud penalty can apply if there’s an underpayment of tax related to an undisclosed SFFA. Criminal penalties are also possible.

Statute of Limitations

The statute of limitations for assessing tax generally doesn’t begin to run if Form 8938 isn’t filed. Even if Form 8938 is filed (or if the Form isn’t required), if $5,000 of income related to an SFFA is omitted, the statute of limitations is extended to six years instead of three.

Summary

While the form instructions have a lot of clarification, they also confirm, and add to, the complexity of completing the Form 8938. Collecting all the necessary information to properly value and report the foreign financial assets, as well as to determine whether there is a filing responsibility, will be challenging and time consuming. Please do not hesitate to call your BNN tax advisor if you have any questions concerning the preparation or filing of this foreign asset report.

This article is provided for information purposes only and should not be relied upon for legal or financial advice. It is not intended to represent a comprehensive discussion of any of the matters covered in the article. We would be happy to discuss how the new program and general filing requirements impact you. For more information, please contact your BNN Tax Professional or Stuart Lyons at 800-244-7444.

IRS CIRCULAR 230 DISCLOSURE:

Pursuant to requirements imposed by the Internal Revenue Service, any tax advice contained in this communication (including any attachments) is not intended to be used, and cannot be used, for purposes of avoiding penalties imposed under the United States Internal Revenue Code or promoting, marketing or recommending to another person any tax-related matter. Please contact us if you wish to have formal written advice on this matter.